The Changing World Economy; Four Themes.

Extracted from a paper delivered to Wellington South Rotary; 22 March

1. The US is No Longer The International Hegemon

There have been only two global hegemons – states with political, economic and military predominance or control over all others.. One was Britain in the nineteenth century. It was replaced by the US from about 1940. It was not just that the US military and economic power was the key to winning the Second World War. After there was a dollar shortage, because the reconstructing rest needed US goods and services but had little to offer in return. It was relieved by the Marshall Plan where the US provided dollars to Europe to help with its reconstruction. (A hegemon may use its power generously.)

That dominance is coming to an end. A key point in international trade was the failure to conclude the Doha (Development) Round in 2008. No longer was the US able to lead the world into a new multilateral trade deal. Instead it shifted to plurilateral deals such as the Trans Pacific Partnership. Intriguingly, President Trump is saying that in future the US will do only bilateral trade deals – which may indicate his assessment of the limitations of US economic power.

The loss of US hegemony is happening on other dimensions. A year or so back, the London-based Economist argued that the US economy may no longer be strong enough to be the banker of the world. It fears that come the next financial crisis (I don’t think the Economist expects one soon), the US, the IMF and others will not be able to bail the system out, even if the US policy response is more coherent than Congress would currently allow. Trump also seems to argue that the US is no longer strong enough to carry the military burden it once did.

What will replace US hegemony? Because over the last two centuries the world has had a hegemonic leader, it is natural to look for a successor. Many will jump to the conclusion that the next hegemon will be China. The more likely scenario is there will be not be one but five economies – China, EU, India, Japan, the US – which will struggle for dominance, with none able to dominate. It seems likely that such a future world order will be very disorderly, something to be much more anxious about than if there was a new hegemon.

 2. The Nature of Economic Globalisation Seems to Be Changing

We have taken it as a norm that international trade should grow faster than production. Between 1985 and 2007 global merchandise trade volumes grew at around twice the rate of global GDP. However since 2012 the rate of growth of trade in goods has barely kept pace with production.

There seem to be three main reasons for this. First, the rapid growth of merchandise exports and imports could not go on forever. Second, a major trade driver has been the falling costs of distance – transport and the related costs of shipping things around. We may have exhausted the productivity gains from, say, containerisation. Third, the growth of merchandise trade has been enhanced by reductions in border protection, but a few commodities aside – that includes our food exports – protection levels are now near zero.

This slowdown is evident only in merchandise trade. It may well be that the digital revolution, which reduces the cost of transporting information, has not exhausted international commercial opportunities and we may see a continued rise in the global trade in services and the dominance of the financial sector.

Additionally, the cost of moving people has come down stunningly. Consequently, migration is increasingly common, leading to rising social and political tensions.

 3 The Rich Economies May Be in a Period of Long-term Stagnation.

Many economists think that the rich world economies may have entered a period of secular stagnation so that their GDP per capita will not grow much in the long term.

The most likely explanation sees economic growth arising from technological innovation. The American economist who has studied this best, Robert Gordon, does not think that current innovations are nearly as significant as those which happened a century ago.

There may be a slightly different explanation of why Gordon cannot find productivity gains in recent years similar to those of a century ago. Many ICT applications seem to have no business case (that is, the owner cannot figure out how to make sufficient cash flow from the business). Yet their services are highly valued by users. In such cases their value may not appear in the productivity and growth statistics.

Low productivity growth and profitability means that there have been fewer opportunities to invest, so that interest rates (and hence profits) are driven down; hence today’s low real interest rates.

That does not mean there will be no growth in material wellbeing and choice; rather it will be different. Meanwhile, many poorer economies may experience rising standards of living as they catchup by implementing the known technologies already available in rich economies.

Business profitability seems likely to decline from past levels This could well mean a dramatic change to the nature of capitalism. It could, for instance, invalidate Thomas Piketty’s predictions of increasing inequality in the long run. But generally such low-profit economies are new territory and we cannot readily predict what exactly will happen.

 4. The Grumbling Populace Seem to Becoming More Politically Powerful.

Examples of the unexpected arising from secular stagnation may be the election of Donald Trump and the British vote for Brexit. In both cases particular circumstances enabled large chunks of the populace to express their displeasure with the ruling elite. Why are there many grumblers in the US, in Britain and, indeed, elsewhere in Europe?

One factor seems to be xenophobia directed towards the increasing international phenomenon of migration.

Meanwhile, the grumblers seem to have suffered a stagnant material standard of living for some time. In the case of some groups of Americans there appears to have been no increase for two and more decades. They blame their income stagnation on the arrival of migrants, although the research evidence does not support that inference.

The issue of opening up an economy to international trade draws a similar conclusion from the grumblers, although the research evidence is a little more complicated. Economic theory does not say that everyone is better off under free trade. What the theory says is that everyone could be made better off if the winners compensated the losers. But generally they do not.

We got away with this lack of compensation when real incomes were otherwise rising, so that most losers were, even so, experiencing a rise in material prosperity. Under secular stagnation there are no such overall rises.

There are always grumblers but they seem to be increasing, probably because of the secular stagnation. Their increased public prominence may be because there are more channels through which to express their discontents. 

Will the grumblers become more politically influential? Undoubtedly the elites – including the US Republican elite – feel badly wrong-footed,. History reports that the Western elites have proved remarkably adaptable to such challenges – which is why the West is democratic. How they will adapt this time and will  they will adapt quickly enough is the new challenge? During the interwar years, the transition sometimes involved authoritarian populist movements – fascism. There are those who discern the rise of fascism in some democracies.